Comments on the Commission’s Proposals for Reviving the European Securitisation Market

The European Commission has issued proposals for reviving the European securitisation market by moderating the stringency of prospective Basel rules for qualifying Simple, Transparent and Standardised (STS) securitisations. This paper sets out the background to these proposals, analyses impediments to their success and suggests remedies.

The key issue on which we focus is the hierarchy of approaches to determining capital requirements for securitisation. The current proposals, while containing some positive developments, retain heavy dependence on agency ratings. The US authorities have successfully removed such dependence by the general use of formulae-based approaches and the flexibility brought by the use of proxy inputs. We see no reasons why Europe cannot do likewise. While we are hopeful that solutions can be found, we argue that defects in the hierarchy of approaches available to European banks may still vitiate the Commission’s effort to restore securitisation activity.

The Commission has left unchanged several other problematical features of the Basel Committee’s securitisation capital framework. These include the dependence of risk weights on tranche rather than asset maturity (which, we argue, is contrary to European Single Market precepts), and some inappropriate aspects of the capital formulae (such as non-risk sensitive treatment of junior mezzanines and the rewarding of poor asset performance).

We propose simple solutions that would improve the coherence of the proposals and significantly increase the likelihood that the market will indeed revive.